With a second (policy/repo) rate hike in less than two months, the Reserve Bank of India (RBI) made it loud and clear that bringing down inflation is its primary objective. This, in RBI governor Raghuram Rajan’s view, is essential for growth in the longer run.
“Curbing mounting inflationary pressures and managing inflation expectations will help strengthen the environment for growth by fostering macroeconomic and financial stability,” said Rajan. The RBI on Tuesday hiked the repo rate by 25 basis points (bps) to 7.75% in its second quarter/half-yearly monetary policy review.
“With consumer price inflation close to 9.5% and deposit rates in an 8-9% range, positive real return to savers still calls for a further hike in the repo rate, unless consumer price inflation falls sharply, which appears unlikely at the moment. We pencil in another 25 bps hike in the repo rate to 8% by March 2014,” said Sonal Varma and Vivek Rajpal, economists at Nomura. A Prasanna, chief economist at ICICI Securities Primary Dealership, also expects at least one more rate hike of 25 bps this fiscal.
The RBI expects India’s gross domestic product (GDP) to grow at 5% by this fiscal-end. The projection was based on better agriculture output, faster project clearances and stronger exports.
Rajan said that downside risks to growth still persist and the RBI would prefer higher growth in investment rather than consumption in order to boost recovery at this juncture. More demand would only add to inflation, he said.
The special window for banks to swap the foreign currency non-resident or FCNR deposits and overseas borrowings into rupee funds at concessional rates have attracted $12.1 billion since its introduction on September 10. The window remains open till November 30.
Even as the rupee has stabilised, the RBI said it would monitor the exchange rate volatility before rolling back liquidity tightening measures such as the cap of 0.5% of net demand and time liabilities on overnight repo funds. Bringing back dollar demand of oil marketing companies to the spot foreign exchange market would depend on external factors, Rajan said.
The central bank coupled the repo rate hike with reduction in the marginal standing facility or MSF rate by 25 bps to 8.75% which is the third cut in less than two months.
This was aimed at normalising the rate corridor under the liquidity adjustment facility or LAF, which was restored to 100 bps between the repo and the MSF rate. The operative policy rate, however, continues to be the MSF rate. It may take longer for the overnight call rate to move toward the repo rate. The RBI also increased accessibility of term repos of 7-days and 14-days by 25 bps, thereby making an additional Rs 19,000 crore available to the banking system.